Greenspan says scandal will cost firms dearly

Wrongdoers could incur market's wrath, he warns

Federal Reserve Chairman Alan Greenspan joined the chorus yesterday of leaders urging corporate America to clean up its governance, warning that firms with tarnished reputations will pay a steep price.

Addressing via satellite a financial markets conference at Sea Island, Ga., sponsored by the Federal Reserve Bank of Atlanta, Greenspan said companies with poor governance risk the wrath of the market, and said that fact, and not increased regulation, is the best solution to corporate America's problems. Greenspan said "the reputation of a corporation is an exceptionally important market value," adding that its importance has risen in recent years as scandals shook confidence in American business.

He said the significance of companies' reputations had waned in the 20th century as federal regulations and, in some cases, financial guarantees such as bank deposit insurance reassured Americans.

"But corporate scandals of recent years have clearly shown that the plethora of laws of the past century have not eliminated the less savory side of human behavior," he said. "Rules cannot substitute for character."

Such malfeasance, he said, could have widespread repercussions.

"Recent allegations on Wall Street of breaches of trust or even legality, if true, could begin to undermine the very basis on which the world's greatest financial markets thrive," he said.

While saying that "guilty parties should be expeditiously punished," he said much of the risk of bad governance comes from investors' response.

"After the revelations of corporate malfeasance, the market punished the stock prices of those corporations whose behaviors had cast doubt on the reliability of their reputations," he said.

Although the Sarbanes-Oxley corporate governance law and other regulations have been enacted to address business scandals, Greenspan joins many other officials, including accounting oversight board boss William McDonough, in saying the real solution lies within companies themselves.

Although the Fed, as a key banking regulator, has some authority over financial institution governance, Greenspan's major influence is through his stature and the bully pulpit.

In his remarks, he reiterated his view that new regulation can have unintended consequences.

"Some practices and rules have outlived their usefulness and require updating," he said, but he warned that "rewriting rules that have served us well is fraught with the possibility for collateral damage."

Greenspan's speech contained some of his strongest rhetoric on the issue in months, but he is not the only Fed official speaking out on governance. Susan Schmidt Bies, a member of the Fed board of governors, has made several speeches on corporate governance.

Bies has urged companies to improve internal controls and auditors to improve the quality of their work, warned about mutual fund conflicts of interest, praised companies that have agreed to count options as an expense and spoken out for greater transparency in financial reporting.

"Simply stated, the current status quo for corporate governance is unacceptable and must improve," she said last year.

Improving governance may have its own rewards, Greenspan said yesterday.

"I hope and anticipate that trust and integrity again will be amply rewarded in the marketplace as they were in earlier generations," he said. "There is no better antidote for the business and financial transgressions of recent years."